Thank You

Error.

Nostalgia fans have plenty to choose from lately, what with 2013 unfolding in ways that smack of both the 1980s and the 1990s. Economic growth averaged just under 4% a year through both of those expansionary decades, but defensive sectors led in seven of the 10 years from 1982 through 1991. Then the 1980s' big hair and loud colors gave way to antifashion and grunge, and cyclical stocks led in six of the next eight years.

With defensive stocks propelling this year's rally and the Nikkei levitating anew, investors can be forgiven for feeling it's the '80s all over again. Tom Cruise is still around (and so is all his hair), Star Trek is playing in movie theaters, and Americans are besotted with their mobile entertainment (the Sony Walkman then, the smartphone today). A British royal couple and their spawn still hog global headlines.

Yet the way stocks logged a 23% gain in six months also carries a distinct whiff of the 1990s. We've gone 183 days without a 5% correction, the longest such stretch of this bull run, and the relentless rhythm feels a little like 1995, when a rally without a pause netted a 33% annual gain. Then, as now, investors fretted about government deficits and European malaise. The White House was occupied by a Democrat whom critics wanted to impeach; deadly bombings rocked the nation (Oklahoma City in 1995, Boston in 2013); and Claire Danes was best TV drama actress at the Golden Globes.

Will the past be prologue? The bull market of the 1980s began after the Fed hiked interest rates aggressively to kill inflation. Year-over-year inflation shrank from about 13.5% in 1980 to 1.9% by 1986, notes JPMorgan. And as interest rates steadily shriveled, investors scoured the market for yield, and became increasingly willing to pay higher multiples for dividend-paying defensive stocks.

Today's investors are just as starved for yield, with rates parked near all-time lows. Central banks are working hard to reflate assets, but growth is fitful and the fetor of disinflation dogs our recovery. But here the parallels end, and Thomas Lee, JPMorgan's U.S. equity strategist, thinks we're more likely to see inflation stabilize at low levels or tick up from here.

Today, "many investors' underlying assumptions are closer to the 1980s—tepid GDP, weak capital spending, low inflation," Lee writes. But over the next three to five years, he thinks discounted cyclical stocks could outperform. Spending on durable goods and fixed investment as a percentage of our economy declined from 28% in 1978 to 21% by 1991, before it rebounded to 26% by 1999 as new technology spurred a capital-spending boom. Today, durable-goods spending remains near a 50-year low at 21%, and has room to grow, Lee notes.

Price/earnings valuations of cyclical stocks also were recently at a 35% discount to their defensive counterparts—not unlike the 33% discount they sported as the 1990s began. Profits at cyclical companies grew 4.5% in the 1980s, on a compound annual rate, and improved to 8.2% a decade later. But Lee thinks the bigger swing factor was in the multiples that investors were increasingly willing to pay for cyclicals as inflation stabilized and capital spending picked up. Some of the cyclical sectors he favors include tech and industrials.

IT HELPS THAT INVESTORS remain deeply wary of the global economy. Bank of America Merrill Lynch's latest survey of global money managers showed allocations to commodities collapsing to their lowest level since late 2008. A Chinese hard landing has also become the second most-feared risk (just behind Europe's banking crisis), and the cadre that sees China's economy improving is now at its smallest in 14 months. Not surprisingly, economically sensitive energy stocks recently fetched about 12.2 times projected profits, and technology 13.2 times—versus multiples topping 17.3 times for consumer staples and 19.2 for telecoms.

While the U.S. stock market hasn't had a correction of more than 3.2% in six months, some cyclical groups have pulled back 5% to 10%. Citigroup's economic surprise index, which measures how data fared versus expectations, has started to stabilize after wilting earlier this year—not because data are looking so great, but because economists' expectations may finally be low enough, notes Jeffrey Kleintop, LPL Financial's chief market strategist. "It may be time to begin to buy some of the laggard cyclicals, especially on any pullback in the overall market."

As the S&P 500 hit another record, the crop of constituent stocks braving 52-week highs expanded to 37.2% at midweek, notes Bespoke Investment Group. That's the highest of this bull run and a confirmation that more stocks are joining this broadening rally, 1990s-style. Just don't bring back Alanis Morissette, please.